Is PFE (Potential future exposure) calculation applicable for written options when they are included in derivative netting and not applicable for written options when there is no netting agreement?
In question 2013_666, in the example, it has been mentioned that PFE (Potential future exposure) from risk perspective, it is necessary to include written options in a netting set.
Q&A 2013_666 clarifies that sold options are included in the scope of Chapter 6 "Counterparty Credit Risk" of Title II "Capital requirements for Credit Risk" of Part 2 "Own Funds" of the CRR due to two reasons:
- Paragraph 3 of Annex II, 'contracts of similar nature' include 'all instruments specified in points 4 to 7, 9 and 10 of Section C of Annex I to Directive 2004/39/EC' which refers to 'Options' in general, including the written ones.
- Written options have to be included to reflect the risk stemming from a decrease in the market value of written options when they are included in a netting set together with other instruments.
Considering the second reason mentioned above, it is important to distinguish written options within and outside a netting set that includes other derivative instruments:
As specified in Q&A 2013_666, written options within a netting set have to be included in the calculation of the counterparty exposure as written options might lead to an increase in the potentially positive market value (i.e. replacement cost) of the overall netting set.
Regarding sold options that are not included in a netting set with other derivative instruments, its value will always be negative and therefore will never produce counterparty credit risk,
Accordingly, written option(s) that are not part of a netting agreement shall not be subject to PFE calculations. This is also true for netting sets only comprised of written options.
Update 16.09.2021: This Q&A has been archived in light of the change(s) in Article 274 to Regulation (EU) No 575/2013 (CRR), applicable from 28.06.2021.